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Transocean: Swimming in Profits

A big demand for oil exploration is fueling the fortunes of this energy-service company.

January 30, 2006

Energy-service stocks have surged over the past 12 months, particularly since the start of this year. But deep-water drillers such as Transocean Inc. (symbol RIG) still hold potential, says Timothy Parker, an energy analyst at T. Rowe Price.

An increase in spending by the major oil companies and by exploration and production companies has powered an advance in the fortunes of energy-service firms. Not enough money was spent to find oil and gas in the past two decades. Now the oil and gas industry is making up for lost time, Parker says.

What's particularly attractive about deep-water drillers is that many of the new discoveries in oil and gas are expected in deep water. Transocean is the biggest of the deep-water drillers. So eager are major oil firms to drill in deep water that they have signed contracts leasing a Transocean rig for as much as $425,000 a day from mid 2007 to mid 2010, says Parker.

The stock isn't cheap -- which shouldn't be surprising given that Transocean is the biggest and best of the deep-water drillers. Transocean should earn $4 to $5 this year and $5 to $6 next year, Parker predicts. Using the $5 figure, Transocean, recently $82, has a price-earnings ratio of about 16. Parker also expects earnings to continue growth at a rapid pace.

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Be aware, though: Like all energy-service stocks, Transocean is highly cyclical. It soars in good times and plunges in bad times. The sell signals to watch for are signs that the U.S. is entering a recession or that China's growth juggernaut is derailing. Either would likely slow the demand for new oil and gas. Don't just watch the company's earnings. By the time Transocean's earnings begin to fall, the stock will likely already have cratered.